If you are confused by all of the different options out there for retirement plans, don’t worry. It’s very common since there are a lot options out there and they use funny names that only financial planners understand.
As entrepreneurs, we don’t have a pension to lean on. And don’t count on having Social Security by the time we retire! It’s up to us to ensure we have enough wealth or cash flow for retirement.
The goal of this article is to layout out two of the best options for retirement plans for entrepreneurs.
Let’s first breakdown the different categories of retirement plans.
Categories of Retirement Plans
There are a lot of retirement plans out there. To help simplify them all, we grouped them into the following categories:
Individual Retirement Plans:
These are the Traditional, Roth, or Spousal IRAs. These are a nice start if you are looking for something simple and don’t have a lot of money available to contribute, as they have small contribution limits.
Employer-Sponsored Retirement Plans:
These are Traditional or Roth 401Ks, 401Bs or Thrift Savings Plans available to employees of a company. These plans offer higher contribution limits than the IRAs listed above, but you still end up with investment restrictions of stocks, ETFs, bonds and mutual funds.
Retirement Plan Options for Self-Employed or Small Business Owners:
This is the sweet spot where we will focus our attention on. These offer higher contribution limits and more control on investment options.
All of these plans can be Self-Directed, which frees up your retirement funds from a traditional custodian so you can invest in non-paper assets such as; real estate, notes and other hard assets.
This is a critical point you need to understand before going further. If this concept is new to you, read “Why Do People Think A Self-Directed IRA Is a Good Thing?”
Our Top 2 Retirement Plans
We selected these two as the best plans for entrepreneurs. These two plans maximize contributions and offer specific benefits not available in others.
The Simplified Employee Pension IRA (SEP IRA) is simple to set up and manage. It works well for entrepreneurs with one or more employees.
Let’s look at an example:
Your business makes 100% of the contributions for the employees based of a percentage of their salary. Your company has the flexibility to change the percentage from year to year, but it must be consistent for all employees.
Contribution Limits (2017): The lesser of up to 25% of employee salary or $54,000.
- Easy to set up. Least amount of paperwork. No IRS filing rule
- Higher contributions limits than other IRAs
- Contributions not due until April 15th of the following year or September 15th if you file an extension. This allows you to check your company profits before deciding on the percentage of contributions each year.
- Employers get the tax deductions since they are making the contribution.
- No catch-up provision if you are over 50 years old
- Loans are not allowed (counted as a distribution)
- Must contribute the same percentage for every employee
- Increasing your salary (and reducing your distribution) to boost up your 25% contribution amount (which is based on salary) is not recommended. It will result in paying higher employment taxes on the other 75%. This may outweigh the benefit of this strategy.
Also called an Independent 401K, One-Participant 401K or Individual 401K. This is a 401K plan where you and your spouse are the only employees (i.e. the business owners). The business cannot have any other full-time employees.
The plan allows you to contribute as both the employer and employee. This provides you with higher limits than most other retirement plans and does not have the additional payroll tax burden as the SEP IRA.The Solo 401K allows you to contribute both a portion of your wages & profit sharing. Click To Tweet
Contribution Limits (2017):
Employee Limits: $18,000 or $24,000 if you are 50 or older
Employer Limits: 25% of the annual profit (20% for sole proprietorship or single member LLC).
The total contributions can be up to $54,000 or $60,000 if you are 50 or older.
- Greatest contribution limits
- Allows for the contribution of both employee and employer contributions.
- The employee contribution portion can be taken directly from the salary, thereby reducing the payroll taxes.
- Can borrow from it for business, real estate – up to 50% of the account balance, up to $50,000.
- Flexible amount of contributions each year
- If set up as a Self-Directed Solo 401K, you can invest in real estate – and there’s no nasty Unrelated Debt Financed Income (UDFI) taxes. We’ll cover more on that in a future article.
- No custodian required. You can self-trustee. We recommend you still pay a service to track the regulations and provide updates for your plan.
- More paperwork than an IRA
- Contributions deadline is December 31st of the contribution year
- IRS Form 5500 required after $250K in assets
When starting out and not having a lot of money, we like the simplicity and flexibility of a SEP IRA.
As you begin to make more, we like the Self-Directed Solo 401(k) as our clear WINNER.
You are maximizing your contributions without increasing your taxes. In fact, you are delaying taxes and have the ability to take loans and leverage real estate investments without incurring UDFI.
Now SUPERCHARGE IT!
WHAT? What does that mean?
We have a strategy that, when combined with the Solo 401K (or SEP IRA), provides you with the ability to build up a TAX-FREE retirement account quicker that you ever thought possible.
Until recently, this “trick” has only been known by the rich. We’ll disclose the entire strategy in our next week’s article.